Sole Proprietor has a loss

A sole proprietor showing a loss on his Schedule C.

Is he allowed to have a 401K deferral. 
If he can, what is the maximum he can defer?

No.

Mike

Does the IRS assess a penalty removing the non-allowable deferral to the plan?. Client did not know it wasn't allowed.

Is it sufficient to withdraw the $26,000 deferral? Must more money be  withdrawn?

Client wants to leave the money in the plan and not deduct it. What are the consequences for doing this?

Thank you so much for all your help

I'm not Mike, but....

1.  No penalty, it's a corrective distribution with no "adverse" consequences other than not being able to keep the funds sheltered.

2.  The associated earnings on the contributions through 12-31 must come out, too.  (Or, investment losses would reduce the amount to refund.)

3.  It can't stay as a 401(k) contribution - there were no wages to defer from.  So if it's going to stay as a contribution to the plan it would be a nondeductible employer contribution, subject to a 10% excise tax to pay and remit via Form 5330.  And it will continue to be subject to the tax every year until it can be absorbed under a future year's deduction limit.  (If he ends up with a loss in 2022 he'll owe the penalty again.)

--bri

Thank you

28 minutes ago, Bri said:

I'm not Mike, but....

1.  No penalty, it's a corrective distribution with no "adverse" consequences other than not being able to keep the funds sheltered.

2.  The associated earnings on the contributions through 12-31 must come out, too.  (Or, investment losses would reduce the amount to refund.)

3.  It can't stay as a 401(k) contribution - there were no wages to defer from.  So if it's going to stay as a contribution to the plan it would be a nondeductible employer contribution, subject to a 10% excise tax to pay and remit via Form 5330.  And it will continue to be subject to the tax every year until it can be absorbed under a future year's deduction limit.  (If he ends up with a loss in 2022 he'll owe the penalty again.)

--bri